# The Case for Austrian Economics **URL:** \ **Category:** Great Debates\ **Created:** [July 11, 2010, 10:14pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333 "2010-07-11T22:14:17Z")\ **Posts on this page:** 13\ **Page:** 5
**Author:** ![IdahoMauleMan](https://avatars.discourse-cdn.com/v4/letter/i/71c47a/32.png) [@IdahoMauleMan](https://boards.straightdope.com/u/IdahoMauleMan)\ **Post date:** [July 21, 2010, 8:46pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/81 "2010-07-21T20:46:31Z")
> [@Sam\_Stone](#): > > P1. The problem with a money supply is that velocity can change. For instance, let’s talk about the gold standard. Now, I haven’t thought much about the gold standard other than to decide it was probably not a good idea, so maybe there’s some holes in my logic that you can point out. > > P2. Let’s say that we decide a dollar is worth .001 ounces of gold. So our total money is linked directly to the size of our gold reserves. But what happens if money stops moving? Now there’s a shortage of cash. It’s hard to get loans, which contracts business activity. This causes velocity to slow down even more. You get into a deflationary spiral which does all kinds of damage to investment and the information content of prices. > > P3. Specific to the gold standard is the problem that the amount of gold itself fluctuates. Advocates of the gold standard say that because gold is constantly mined, the gold supply will slowly increase, giving you a nice, slightly positive inflation rate, which is what most economists agree is a good thing (low but positive inflation, that is). But do you really want to tie your money supply to something as arbitrary as discovery rates for gold? Is it really that predictable? Also, gold is used for other things like electronics and jewelry. Gold used for these purposes is taken out of the money supply indefinitely - it really is like putting your money under a mattress. So the money supply would constantly be pulled and tugged by forces that have nothing to do with money. > > P4. Ultimately, the real objection to the gold standard that I think has merit is that it’s a false hope. You think that by ending fiat money you take away the power of the government to screw with the money supply. But I have no hope that that’s the case. After all, the government passes ‘good government’ laws all the time, and then completely ignores them. Campaign Finance Reform, 8 million balanced budget amendments, pay as you go rules, anti-lobbying rules, etc. They’re always ignored, delayed, or worked around whenever the government feels the need to do so. I have no doubt that when the first financial crisis hits, government will just abandon the gold standard again anyway, like it did in 1934. Or, it will come up with some way to jigger the gold standard, like issuing gold certificates borrowed against future discovery or some damn thing. > > P5. But ultimately, the biggest argument for a fiat currency is that prices can be kept stable, or at least ultimately controlled in some kind of predictable fashion. Most economists agree that deflation is a really bad thing, and under a gold standard there’d be no way of stopping that from happening under the right conditions. Also, I think you’d see more attempts at currency manipulation by speculators, you’d find dishonest governments over-stating their gold reserves, yada yada. > > P6. I don’t even think it’s true that a gold standard would avoid recessions - one of the problems for the Austrian theory is that there were plenty of recessions before there were central banks and fiat money. About the only thing a gold standard would prevent is an inflationary spiral from governments printing money willy-nilly. No one wants to be the next Weimar Republic or Argentina. But I’m not sure that’s a real risk for the U.S. - too many other nations are pegged to the U.S. dollar, and the U.S. is too invested in keeping the value and stability of the dollar up. > > P7. In fact, I’ve been thinking that floating exchange rates and worldwide currency trading are perhap the best control mechanism we have to ensure that fiat money doesn’t get out of hand. If a country is completely cut off from trade, then maybe it can put off the day of reckoning by constantly inflating the money supply. But in a global economy with floating exchange rates, there’s a marketplace for world currencies. Screw around with your money supply, and it shows up in the exchange rate. If you finance debt by selling Treasury Bills to foreigners, you’ll find your interest rates being driven up by the need to clear your auctions. So the real world asserts itself on you. Now, if people advocated a single world fiat currency, that would be a very bad idea. > > P8. I’ve been one of the people who early on feared that all the QE going on would result in inflation in the future. I’m not so sure any more. I think it increases the risk of that, but it also decreases the risk of deflation, which would be worse. Clearly the price of gold indicates that people are hedging against inflation, but I’m not sure how much of that is simply reflective of the fear and uncertainty that’s affecting all markets, rather than a specific inflation hedge. > > P9. Am I confident that government will manage the money supply correctly? Not a chance. I think there is plenty of evidence that it hasn’t done so. But I don’t have a great solution other than regulatory reform. Perhaps the money supply could be linked to the price of a collection of commodities, or the consumer price index, or some other way of measuring the ‘real’ need for the money supply. There have been plenty of different proposals for improving the way the fed makes its decisions. > > Unfortunately, that ship just sailed. The new financial reform bill has new oversight rules for the Fed, but they are vague and rely on a council of smart people to make up the rules as they go along, as I understand it. That just makes the problem worse and injects politics into the process. Someday I need to learn how to quote individual paragraphs on the editor. Not a lot of data I can add here other than personal observation and opinion. I understand that the velocity of money can change. In the real world, that means fewer transactions - fewer goods get bought, fewer suppliers are brought on line, fewer employees are hired, fewer overseas flights are taken for business meetings, fewer everything. I’ve been running businesses for 25 years and I’ve definitely seen peaks and troughs in the ‘velocity of money’. I would certainly argue, as I’m sure you would, that we are going through a trough right now. But other than a few fillups around 1998 and 2002 when I was working in the banking sector, I would argue the major changes in the velocity of money (as defined in my layman’s example) are either due to 1. Risk factors and uncertainty associated with taxation, government regulation or trade policy 2. Geo-political risk factors (such as after Sept 11, or during the early days of the first Gulf War) 3. A monetary effect caused by a prior monetary screwup - like the housing market now If you look at earnings reports of publicly traded companies over the years, for example, only a small % of them will cite the cost of capital or availability of credit as a major concern. Most of the major risks and opportunties are the run-of-the-mill stuff that tightening or loosening of the money supply cannot effect all that much. Right now, my business probably has monetary policy as about the 17th most important factor - far more important is US trade policy towards South America and the Middle East, tax policy and employment law. With maybe California water rights thrown in as next in line. This is for a relatively small business with 250 employees worldwide and $75 million in annual revenue. That’s sort of in line with the Austrian model, isn’t it? A lot of micro-factors adding up to dominate the effects of what anybody can do at the macro-tiller, trying to ram dollars down the top of the funnel and push on the rope stuck in the middle. Sorry to mix metaphors. P6. Not saying that the gold standard would avoid recessions. Just saying that we will have more, and will probably be worse, because of the chasing-the-thermostat errors made in monetary policy by the Fed. Let’s take one more tool out of the hands of government officials. P5. I don’t buy the notion that prices have to be kept stable to avoid recessions. I think deflation = recessions mixes up cause and effect. The way my pedestrian mind understands things, economists claim deflation is a bad thing because it can cause consumers to sit on their cash pile and postpone consumption, thereby triggering a death spiral in the economy. But this happens in little micro-markets all the time, like in computers and consumer electronics. New generation products are always an order-of-magnitude better than the previous generation, and consumers know that they are coming. There are millions of little ‘Should I wait…or should I buy now?’ decisions going on in these markets all of the time. And yet these are healthy, growing industries that employ tens of millions of people worldwide. They certainly haven’t suffered from rapid _and expected_ continual drops in prices over time. Neither did oil, electric power or automobiles a century ago. Consumers can bake in the expectations of price declines into their purchasing decisions just as easily as they can bake in expectations of price appreciation. I don’t understand why the two are so different. And througout much of the 19th century and early 20th, there was a gradual, slow decline in overall prices (when we were tied to the gold standard, incidentally) during one of the greatest booms of productivity and human prosperity in the history of mankind. That’s about all I have time for now. Thanks for posting so much. ---
**Author:** ![Digital\_Stimulus](https://avatars.discourse-cdn.com/v4/letter/d/aeb1de/32.png) [@Digital\_Stimulus](https://boards.straightdope.com/u/Digital_Stimulus)\ **Post date:** [July 21, 2010, 11:16pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/82 "2010-07-21T23:16:08Z")
> [@IdahoMauleMan](#): > > Someday I need to learn how to quote individual paragraphs on the editor. Sorry for the digression, everyone, but yes, it would make your posts **much** more readable. Here’s one way, assuming you see what I do (a text box) after hitting the ‘Quote’ button. You have to use what are called (vBulletin) _tags_. Just before the particular text you want to quote, type the ‘open quote’ tag: \*\* [quote] \*\*. Just after the particular text you want to quote, type ALMOST the same thing, just put a forward slash (that is: **/quote** , but surrounded by square brackets) to make it a ‘close quote’ tag. I can’t get that on the screen, because if matching ‘open’ and ‘close quote’ tags are found in a post, whatever is between them will be quoted. This is similar to how one bolds (replace **quote** with **b** ) or italicizes (replace **quote** with **i** ) text. Note also that you can type \*\* [quote=someone] \*\* to have the ‘Originally Posted by **someone** ’ message appear. Hope that helps; feel free to PM me if you need clarification. ---
**Author:** ![Sam\_Stone](https://avatars.discourse-cdn.com/v4/letter/s/ecccb3/32.png) [@Sam\_Stone](https://boards.straightdope.com/u/Sam_Stone)\ **Post date:** [July 22, 2010, 1:13am UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/83 "2010-07-22T01:13:36Z")
Even easier - use the advanced editor (click the ‘go advanced’ button). Now just select a paragraph with your mouse or keyboard, and click the ‘quote’ button (third from the right on the bottom - looks like a yellow cartoon balloon). It will add the appropriate quote tag around the paragraph. ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [July 22, 2010, 5:55pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/84 "2010-07-22T17:55:56Z")
This is interesting – [“First Glenn Beck, Now George Will,”](http://www.salon.com/news/opinion/feature/2010/06/22/george_will_leo_strauss/index.html) by Michael Lind, Salon, 06/22/10: > [@](#): > > The Straussian claim that American liberals since the New Deal have repudiated the ideals of the Declaration of Independence, then, is nothing more than a smear, like calling Barack Obama a socialist or fascist. What about Voegeli’s claim, seconded by George Will, that liberals have a limitless appetite for addicting Americans to welfare? > > Here, too, the historical record contradicts right-wing propaganda. Franklin Roosevelt and Lyndon Johnson detested what both called “the dole.” In 1935 FDR asked Congress to replace relief payments with public employment programs: > > > [@](#): > > > > The lessons of history, confirmed by the evidence immediately before me, show conclusively that continued dependence upon relief induces a spiritual and moral disintegration fundamentally destructive to the national fibre. To dole out relief in this way is to administer a narcotic, a subtle destroyer of the human spirit. It is inimical to the dictates of sound policy. It is in violation of the traditions of America. Work must be found for able-bodied but destitute workers. The Federal Government must and shall quit this business of relief. > > > > I am not willing that the vitality of our people be further sapped by the giving of cash, of market baskets, of a few hours of weekly work cutting grass, raking leaves or picking up papers in the public parks. We must preserve not only the bodies of the unemployed from destitution but also their self-respect, their self-reliance and courage and determination. > > Like his mentor Franklin Roosevelt, Lyndon Johnson, who headed the National Youth Administration work program in Texas in the 1930s, supported workfare, not welfare, for the able-bodied poor. Describing the Economic Opportunity Act of 1964, which promoted jobs and training for the poor, Johnson said: “This is not in any sense a cynical proposal to exploit the poor with a promise of a handout or a dole. We know – we learned long ago – that answer is no answer … We are not content to accept the endless growth of relief rolls or welfare rolls.” When the bill was being drafted, Johnson ordered one aide, Lester Thurow, to remove any cash support programs, and told another aide, Bill Moyers, “You tell [Sargent] Shriver, no doles.” > > \ > > It is true that in his 1972 presidential campaign, George McGovern supported the idea of a guaranteed income or “demogrant,” a proposal that Johnson had rejected. **But the idea of a guaranteed income or negative income tax was proposed by none other than the libertarian economist Milton Friedman in the conservative magazine National Review in 1967.** After defeating McGovern, Nixon adopted the negative income tax as his own proposal. When it was rejected by Congress, a modified version of the negative income tax in the form of the Earned Income Tax Credit became the preferred welfare program of the Ford and Reagan administrations and of Bill Clinton, a center-right Democrat who broke with the New Deal tradition on this as on other subjects. Recently, Charles Murray wrote an entire book proposing to replace welfare programs with a guaranteed income. > > What accounts for the infatuation of conservatives like Milton Friedman and Charles Murray with giving cash to the poor instead of providing them with public works jobs like the WPA job that rescued Reagan’s father from unemployment in the Great Depression? > > **Friedman and most other economists on the American right, like neoclassical economists in general, do not think about the economy as Roosevelt and Johnson did, in terms of republican citizenship and the dignity of labor. Chicago School economists are utilitarians. For them, poverty is by definition a lack of money and the simplest way to cure it is to write checks to the working poor or the non-working poor. Writing checks involves less bureaucracy than public works programs that add to our national infrastructure or increase our quality of life. The Lockean republican objection of Roosevelt to cash relief – “We must preserve not only the bodies of the unemployed from destitution but also their self-respect, their self-reliance and courage and determination” – is alien to the value system of utilitarian economics.** The Chicago School of Economics discussed here **is** a branch or derivative of the Austrian School, is it not? ---
**Author:** ![Captain\_Amazing](https://avatars.discourse-cdn.com/v4/letter/c/6de8d8/32.png) [@Captain\_Amazing](https://boards.straightdope.com/u/Captain_Amazing)\ **Post date:** [July 22, 2010, 6:06pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/85 "2010-07-22T18:06:21Z")
> [@BrainGlutton](#): > > The Chicago School of Economics discussed here **is** a branch or derivative of the Austrian School, is it not? Not really. The Chicago School is neoclassical economics, which developed in opposition to the Austrian school. ---
**Author:** ![BrainGlutton](https://avatars.discourse-cdn.com/v4/letter/b/82dd89/32.png) [@BrainGlutton](https://boards.straightdope.com/u/BrainGlutton)\ **Post date:** [July 22, 2010, 6:07pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/86 "2010-07-22T18:07:34Z")
> [@Captain\_Amazing](#): > > Not really. The Chicago School is neoclassical economics, which developed in opposition to the Austrian school. Could you please give us some background on that for the lay reader? ---
**Author:** ![Captain\_Amazing](https://avatars.discourse-cdn.com/v4/letter/c/6de8d8/32.png) [@Captain\_Amazing](https://boards.straightdope.com/u/Captain_Amazing)\ **Post date:** [July 22, 2010, 7:03pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/87 "2010-07-22T19:03:48Z")
> [@BrainGlutton](#): > > Could you please give us some background on that for the lay reader? I’d rather somebody else do so, because I don’t know that I have a good enough grasp on it to explain it without making major mistakes. ---
**Author:** ![Sam\_Stone](https://avatars.discourse-cdn.com/v4/letter/s/ecccb3/32.png) [@Sam\_Stone](https://boards.straightdope.com/u/Sam_Stone)\ **Post date:** [July 22, 2010, 7:21pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/88 "2010-07-22T19:21:37Z")
Friedman came up with the idea of a negative income tax not as a new entitlement, but as a “less bad” version of the welfare system that was already in place. Friedman’s objection to welfare as it existed then was that it created a huge disincentive for work. If you qualified for welfare, you got a cheque. If you got a job, you didn’t. So if you were getting welfare payments of $8,000 per year, and someone offered you a job for $9,000 per year, your gain would only be $1,000 per year, representing an hourly wage of 50 cents. No one would take such jobs, yet people on welfare generally weren’t worth enough to an employer to get them a wage high enough that they had a real incentive to get off of the dole. Friedman’s answer to that was to set up a situation whereby you always did better if you worked more, and to create a system flexible enough that the ‘negative tax rate’ could be tuned to minimize those effects. Friedman was close to being a libertarian, but he was also a pragmatist. If he knew a certain program was inevitable, he’d turn his energies from simply opposing it to figuring out how to bring market forces and rational behavior to it. Both the Chicago school and the Austrian School are in favor of limited government generally libertarian policies, but Chicago School economists support government intervention in the money supply. They’re generally monetarists. The Chicago school is more empirical and mathematical than the Austrian School. Chicago School economists developed the efficient market hypothesis, the permanent income hypothesis, and other explanations for the behaviour of markets, and believe that markets are in general self-regulating and efficient. In that, they don’t differ much from the Austrians. Hayek taught at the University of Chicago, and had a significant influence on other economists there. Both of these schools were generally opposed to Keynesianism. Economists associated with the Chicago School have won more Nobel prizes than economists from any other recognized sub-discipline. ---
**Author:** ![Measure\_for\_Measure](https://sea3.discourse-cdn.com/straightdope/user_avatar/boards.straightdope.com/measure_for_measure/32/557_2.png) [@Measure\_for\_Measure](https://boards.straightdope.com/u/Measure_for_Measure)\ **Post date:** [July 23, 2010, 2:26am UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/89 "2010-07-23T02:26:32Z")
> [@BrainGlutton](#): > > Could you please give us some background on that for the lay reader? Austrian economics is a fringe discipline, though it is not crankery. Freshwater economics (eg Chicago) and saltwater economics (eg MIT) are both mainstream. Disturbingly, I understand that while they teach freshwater macro at MIT, New Keynesian macro is passed over in Chicago. Brad DeLong gives Milton Friedman high praise on occasion. The Austrian Hayek doesn’t tend to receive the same accolades outside of ideological or political settings-- also recall that the big Austrian works were written in the 1940s. George Mason University is probably better known for its recent institutional work than its Austrian stuff. Admittedly I don’t know very much about the latter. I’ve heard that Friedman’s Monetary History of the US can be read as a refutation of the Austrian school. ---
**Author:** ![Hellestal](https://avatars.discourse-cdn.com/v4/letter/h/3ab097/32.png) [@Hellestal](https://boards.straightdope.com/u/Hellestal)\ **Post date:** [August 24, 2010, 11:30am UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/90 "2010-08-24T11:30:07Z")
I am now more tan than I was last month. > [@Ruminator](#): > > Again, sticky wages is overrated. I said previously that workers can get fired. Yes. You _said_ that. Repeating a falsity doesn’t make it any less false. What people say means very little on its own. We should be especially reluctant to trust what people say when their stated beliefs are directly contradicted by well-documented facts and decades of statistical research–the very things I had been attempting to introduce into this discussion, apparently to deaf ears. Reality trumps empty dataless hypothetical theorizing. > [@Ruminator](#): > > Also, if employers are paying sticky wages, then it’s a good chance they are bleeding cash. Their weakening balance sheet also **informs** the market. The bank will withdraw their discretionary line of credit. When one person fires a flare, it is a signal. When everyone fires flares, it is a fireworks show. The signal is lost. Banks in panic can and often do withdraw lines of credit regardless of the financial situation of individual firms. Financial institutions in fear of runs must gather funds (“capital” in the terminology of financiers), and that means keeping cash on hand instead of lending it out. This very crunch of cash can push otherwise solvent firms into bankruptcy, not because they’re unprofitable, but merely because they can’t leverage the profitability of their business into enough short-term liquidity to pay the bills when the markets are spooked. Spooked financial markets do not convey fully accurate information. A business having problems securing credit lines in a recession is not an enlightening piece of business intel. It does not “inform” people of anything useful in this context. It is par for the course, just another sign of the times. > [@Ruminator](#): > > Also, stick wage people are not seeing their “real wage” increase like you believe. That’s a misleading assessment. You have now proceeded from ignoring the data to denying it outright. That is not a good progression. > [@Ruminator](#): > > The “real world” that’s providing goods & services has also changed. Yes, nominal prices are lower but there are additional negative market effects not noticed because of over emphasis on price: less quantity of that product, less options and choice of that product. So, a loaf of bread costs less, but there’s less choice of bread. To say that “real wages” have increased in light of all the other non-price attributes changing is misleading. It is simply not acceptable to rely only on speculation while ignoring the data. There is, yes, a kernel of plausibility here, an avenue of thought worth going down. What has been painfully missing on your part is awareness that this avenue of thought has already been well trodden. There is an extensive literature, decades of statistical research, on this matter. That you have walked down this path, and considered the effects of substitute goods (or a lack thereof) on measuring the real value of money, does not mean that you are the first to have done so. Measuring the economy is entirely dependent on real vs. nominal differences. It a topic of great import. There are people whose work has centered on this effect. It is their area of special expertise. The results from their study are abundantly clear: given our ability to substitute other choices, the loss of one particular branded/differentiated good (or having it priced out of our normal purchasing range, as is often the case) is smaller effect than one might believe at first blush. People substitute. They adapt. Your favorite bakery going out of business is a pimple, not a tumor. This is to say that traditional inflation measures tend to _overestimate_ inflation because of this substitution effect. This means that deflationary effects can be _even worse_ than what the raw numbers might show. The actual problem with real-vs.-nominal inflation measures is one of long-term consequences with things like COLA measures, because the small error in overestimating inflation can compound after a sufficiently long time period. This is not a short-term issue with goods availability during a deflationary depression. The whole problem of a general glut is supply exceeding demand, even given the bankruptcies of some firms. The loss of a particularly preferred brand/business is a genuine loss, but it is nevertheless easy to substitute away from that loss, as consumers are constantly doing, when the availability of alternatives is so great due to a general lack of demand. These substitutes are real and powerful, even given the fact that some partially differentiated goods might be taken off the market. Alternatives abound. Those who keep their jobs in a deflationary situation will see their same nominal paycheck go further, even as the economy goes to hell. > [@Ruminator](#): > > Ah, Keynes reborn. > > The focus on cash/money is wrongheaded. It’s a flawed model. Well, I hope the other readers of this thread have gained something. You call it a “flawed model” after you hand-wave away all the inconvenient evidence that you don’t want to deal with. And now you demonstrate that you haven’t been reading what I wrote with any care. I realize that I wrote a lot, but the purpose was not to entertain myself. I went out of my way earlier to clear the record on this. I particularly emphasized the point that I hadn’t been arguing or citing Keynes. I’d been arguing Friedman, with slight modifications. To keep as well within the spirit of this thread as possible, I’d pursued the most _libertarian_ position that’s justified by the data. There is no point in me continually repeating myself. My purpose here was to discuss money and the potentially debilitating effect of bad monetary policy on the economy. The point is to introduce the _bare minimum_ that all people who are interested in facts about the economy, even Austrian econ types, must accept. I am not going to engage in an empty “debate” on real wage measurements. To say it yet again in this thread: I can’t teach the math in this space. The findings of the Boskin panel, to pick just one notable example of an analysis of traditional inflation overestimates, are available for anyone who actually cares to learn. I said I’d bump this if there were comments, and so I’ve bumped it, but there doesn’t seem to be any more purpose to it. If something genuine turns up, I will wade back in. Otherwise, I won’t. Anyone with a genuine critique of inflation measurements, with the heavy load of evidence and analysis to back it up, should head on over to a real testing ground. I’m not going to humor that topic on a message board. ---
**Author:** ![The\_Facts](https://avatars.discourse-cdn.com/v4/letter/t/bb73d2/32.png) [@The\_Facts](https://boards.straightdope.com/u/The_Facts)\ **Post date:** [August 24, 2010, 11:42am UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/91 "2010-08-24T11:42:34Z")
> [@Sam\_Stone](#): > > In [this thread](http://boards.straightdope.com/sdmb/showthread.php?t=569871), John DiFool asks why we shouldn’t be talking about ‘demand side economics’ as opposed to ‘supply side’ economics. The assumption is that these are really the only two options. > > I’d like to make the case for the third option: Austrian Economics. > > Austrian economics used to be mainstream. Pre-depression, the economic debate was largely one between the Austrians and the Keynesians. The third major school of economics, Monetarism, didn’t come along until Milton Friedman popularized it some time later. > > The Austrians lost the original debate for several reasons. One was that they couldn’t come up with a mathematical model for the economy, and their business cycle theory didn’t fully explain the great depression. The other reason was that the Austrian economic theory did not lend itself well to government ‘fixes’. At least not short-term fixes. > > Keynes, on the other hand, had sophisticated models which sort-of explained what was happening, and had relatively easy answers for how to fix it. So Keynes won the day. > > Later, Keynesianism had its own problems trying to explain the stagflation of the 1970’s, and Monetarism took over and became the prevailing accepted economic wisdom pretty much until the financial collapse of 2000. At that point, Keynes was the only game in town because the monetarist solution to recession could not be enacted because of the liquidity trap. Monetarists argue that you can improve the economy by loosening the money supply through lower interest rates. But if interest rates are zero, you’ve got nowhere to go. Therefore, Keynesians took the ball and ran with it. But now it looks like they’re out of bullets as well - the appetite for more deficit spending has collapsed around the world, and the stimulus spending so far has not worked as promised. > > So what’s the difference between these theories and Austrians, and why do I think the Austrians are (mostly) right? > > The key difference is that both Keynesians and Monetarists explicitly split macroeconomic thinking from microeconomic. Microeconomics deals with how individuals and firms respond to incentives and prices. Macroeconomics in the Keynesian and Monetarist schools deals with aggregates - they abstract away all the micro details and produce aggregate quantities like ‘K’ and ‘L’, representing capital and labor. These plug into nice neat formulas. For example, you have aggregate supply/demand curves or IS/LM model, which shows the relationship between interest rates and economic output, treating ‘output’ as a single scalar value. > > But K isn’t a single number. In the real economy, capital is spread out in numerous places, according to the judgments of millions of people as to where it can be used best. Labor is not a number - it represents the skills, desires, and allocation of hundreds of millions of people. There’s no single ‘price’ that changes when supply or demand moves - there are millions of prices, all of which are related to each other, and the movement of one causes a shifting of the relationships of all. > > As an example, low interest rates don’t stimulate production evenly: they bias the market in favor of projects that are interest-sensitive - capital intensive projects that take a long time to return the investment. This causes capital to flow to these projects at the expense of other uses of the capital. > > Now, if low interest rates reflect the true nature of the underlying ‘real’ economy, then the shift to long-term projects is a good thing as the low interest rates indicate that capital is currently cheap due to real economic factors. But if interest rates are artificially held low by a central authority, money flows into these same projects, but the money flow is at odds with the real needs of the economy. This causes misallocations of labor and capital and ultimately hurts economic growth. Austrians would blame the Fed under Bush for doing exactly that. > > And all of these things reflect a real economy underneath. The relative prices of goods results in assembly lines being built, people training for specific jobs, products being queued up in inventories, etc. When you change relative prices, all of these things are affected. Change doesn’t happen instantly. And change has cost - inventories are wasted, people lose the advantage of knowledge, assembly lines are dismantled, capital investment is destroyed. > > The Austrians would say that aggregating all of this into simple numbers so that models can be applied is to abstract away the things that actually make all the difference. Macroeconomics cannot be understood without studying the microeconomic impact of macro manipulation. And since the real economy is so complex that it cannot be modeled, and the real economy operates on information not available to central planners, any attempts to manipulate it by adjusting the aggregate measures (demand, money supply) will result in destruction of real wealth. > > Of course, prices move in economies all the time, and cause this kind of destruction. But when the movements come from real demand representing the true preferences of the people, it’s ‘creative destruction’ - the removal of goods and services that no one wants any more. When governments change demand or money supply by fiat, it causes destruction because prices become misleading. And when the demand stimulus ends, more destruction occurs when the economy re-adjusts itself back to pre-stimulus price conditions. > > For example, consider the home ownership tax credit that just expired. It’s explicit purpose was to hold up the prices of homes. But now that it has expired, home sales and starts have plummeted. What it did was create artificial demand, which caused the relative prices of everything related to homes to change. Apartments weren’t built in the kinds of numbers they otherwise would be. Home builders and tradesmen that should have been retraining for a new career stayed in the old, over-supplied career. Home Depot ordered mixes of goods into inventory it might not otherwise have ordered. People who should not be buying homes bought them. Then the subsidy ended, and suddenly all these distortions have to be corrected. This takes time and capital that would otherwise have been spent somewhere else. > > The other thing these changes do is create uncertainty. Normally, price rises signal real demand, and cause producers and consumers to change behavior. But when the government starts imposing changes by fiat, it becomes much harder to understand what prices mean. Should Home Depot hire more sales people to meet the demand for home products? Well, that depends if the demand is temporary or not. How do you tell? This raises risk, which impedes investment and employment. > > Deficit spending brings the specter of future tax increases or higher interest rates, which impedes certain kinds of investment. The promise of new future regulations makes it harder for businesses to plan. A lot of business leaders are saying right now that the Obama administration has created so much uncertainty through its policies that it is impeding the recovery. > > Austrian economics is on the rise again. Hayek’s “The Road to Serfdom” has been a major seller at Amazon for the past two years, and briefly hit #1 in all books a while ago and remained in the top 10 until the publisher ran out of books. Last year’s Nobel Prize in economics went to Elinor Ostrom, who did a very Austrian-influenced study of how people organize in the absence of government. Several world leaders such has Vaclav Klaus are explicitly Austrian in their outlook. Furthermore, advances in mathematics, especially in information theory, complexity theory, and chaos theory, are shedding more light on the insights of the Austrians and opening the door to study of Austrian theories. > > Neither Republicans nor Democrats really like the Austrians (although Republicans often pay lip service to Hayek). Both sides desire economic theories that give them the rationale for government intervention. Hayek would not be a ‘supply sider’, because he would have seen artificial inducements of business to be just as destructive as Keynesian inducements of demand. > > A true Austrian leader would respond to many economic ‘problems’ by saying, “Hey, government doesn’t have the tools to fix that. Government will provide stability, ensure the proper functioning of markets, provide some social programs, and that’s about it. You figure out the rest.” That’s not what people want to hear, so politicians instead promise to fix their problems through stimulus, or through business subsidies, or by lowering interest rates or adding/removing regulations. In short, top-down imposed change. Austrians would disagree with most of it, unless they could be convinced that the need was so dire that the cost of change to the underlying real economy was worth it. > > Finally, I’d like to point out that Austrians are not anarchists or even Libertarians. Hayek believed in a wide swath of government programs and regulation. Not as much as we have today, but certainly more than most libertarians would like. > > If you’re interested in reading more about the Austrians, I recommend [Econlib.org](http://www.econlib.org/), the library of economics and Liberty at George Mason University. This is probably the largest collection of Austrian economists in the world. I also highly recommend the [EconTalk](http://www.econtalk.org/) series of podcasts, which are very fair discussions of economic theory from a mostly Austrian perspective, but where they are willing to criticize Austrian theory where appropriate and give due to other schools of economics as well. There are also some great discussion there with non-Austrians such as Paul Romer, and non-economists such as Mark Helperin, and nobel prize winning economists like Vernon Smith and Gary Becker. All presented in a very layman-friendly way. > > Any questions? Would anyone like to debate this? If Austrian economics is so great, why didn’t Austria become a big economic superpower? ---
**Author:** ![Hellestal](https://avatars.discourse-cdn.com/v4/letter/h/3ab097/32.png) [@Hellestal](https://boards.straightdope.com/u/Hellestal)\ **Post date:** [August 24, 2010, 11:51am UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/92 "2010-08-24T11:51:21Z")
> [@The\_Facts](#): > > If Austrian economics is so great, why didn’t Austria become a big economic superpower? Okay. Couple things, **The Facts**. 1. It’s kind of one of them things you shouldn’t do, what the French call a [“fox pass”](http://www.merriam-webster.com/dictionary/faux+pas), to quote a huge block of text if you’re only writing one sentence. All that scrolling for no reason can be a little tiresome, you know? 2. It’s “Austrian” because the original thinkers were from the country, not because the Austrian government itself pursued those sorts of policies. Maybe you making a joke there. I dunno. I might’ve missed the joke because of the, you know, scrolling. See point one. ---
**Author:** ![Damuri\_Ajashi](https://avatars.discourse-cdn.com/v4/letter/d/898d66/32.png) [@Damuri\_Ajashi](https://boards.straightdope.com/u/Damuri_Ajashi)\ **Post date:** [August 25, 2010, 3:07pm UTC](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333/93 "2010-08-25T15:07:20Z")
Thanks for the clarification on the different competing schools of economics. I was an econ minor almost 30 years ago so I know enough to be dangerous. I must have conflated the chicago school with the austrian school because Hayek was associated with Chicago. My biggest problem with teh Austrian school is that they (the current crop of adherents) seem to be ideologically motivated. [Previous page](https://boards.straightdope.com/t/the-case-for-austrian-economics/546333.md?page=4)